Topicus.com (CVE:TOI) Could Be Struggling To Allocate Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think Topicus.com (CVE:TOI) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Topicus.com, this is the formula:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.15 = €106m ÷ (€1.3b - €570m) (Based on the trailing twelve months to December 2022).

Therefore, Topicus.com has an ROCE of 15%. In absolute terms, that's a satisfactory return, but compared to the Software industry average of 9.0% it's much better.

See our latest analysis for Topicus.com

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Topicus.com has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Topicus.com Tell Us?

On the surface, the trend of ROCE at Topicus.com doesn't inspire confidence. Over the last four years, returns on capital have decreased to 15% from 20% four years ago. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

Another thing to note, Topicus.com has a high ratio of current liabilities to total assets of 44%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

In Conclusion...

In summary, despite lower returns in the short term, we're encouraged to see that Topicus.com is reinvesting for growth and has higher sales as a result. These trends don't appear to have influenced returns though, because the total return from the stock has been mostly flat over the last year. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing to note, we've identified 2 warning signs with Topicus.com and understanding them should be part of your investment process.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.